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BENEFITS TO INDUSTRY FROM FUTURES TRADING
Hedging the price risk associated with futures contractual
commitments.
Spaced out purchases possible rather than large cash purchases and itsstorage.
Efficient price discovery prevents seasonal price volatility.
Greater flexibility, certainty and transparency in procuring commoditieswould aid bank lending.
Facilitate informed lending.
Hedged positions of producers and processors would reduce the risk
ofdefault faced by banks. * Lending for agricultural sector would go upwith
greater transparency in pricing and storage.
Commodity Exchanges to act as distribution network to retail agri-finance from Banks to rural households.
Provide trading limit finance to Traders in commodities Exchanges
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BENEFITS TO EXCHANGE MEMBER
Access to a huge potential market much greater than the securities andcash market in commodities.
Robust, scalable, state-of-art technology deployment.
Member can trade in multiple commodities from a single point, on realTiME BASIS
Traders would be trained to be Rural Advisors and CommoditySpecialists
and through them multiple rural needs would be met, likebank credit,
information dissemination, etc.
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WHAT MAKES COMMODITY TRADING ATTRACTIVE?
A good low-risk portfolio diversifier
A highly liquid asset class, acting as a counterweight to stocks, bondsand real estate.
Less volatile, compared with, equities and bonds.
Investors can leverage their investments and multiply potentialearnings.
Better risk-adjusted returns.
A good hedge against any downturn in equities or bonds as there is
Little correlation with equity and bond markets.
High co-relation with changes in inflation.
No securities transaction tax levied.
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7. INSTRUMENTS AVAILABLE FOR TRADINGIn recent years, derivatives have become increasingly populardue to their applicationsfor hedging, speculation and arbitrage.While futures and options are now actively traded on manyexchanges, f orward contracts are popular on the OTC market. While at the moment only commodity futures trade on theNCDEX, eventually, as themarket grows, we also have commodity options being traded.7.1 FORWARD CONTRACTSA forward contract is an agreement to buy or sell an asset on aspecified date for aspecified price.
One of the parties to the contract assumes a long position and
agrees to buy theunderlying asset on a certain specified futuredate for a certain specified price. The otherparty assumes a short
position and agrees to sell the asset on the same date for
thesame price. Other contract details like delivery date, price and
quantity are negotiatedbilaterally by the parties to the contract.
The forward contracts are normally tradedoutside the exchanges.The salient features of forward contracts are:
They are bilateral contracts and hence exposed to counter-party risk.
Each contract is custom designed, and hence is unique in terms
of contract size, expiration date and the asset type and quality.
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The contract price is generally not available in public domain.
On the expiration date, the contract has to be settled by
delivery of the asset. If the party wishes to reverse the contract, it has to
compulsorily go to the same counterparty, which often results in high prices being charged.
However forward contracts in certain markets have become very
standardised, as in thecase of foreign exchange, thereby reducing
transaction costs and increasing transactionsvolume. This process
of standardisation reaches its limit in the organised
futures market
FUTURES MARKET
F utures markets were designed to solve the problems that exist
in forward markets. Afutures contract is an agreement between
two parties to buy or sell an asset at a certaintime in the future at
a certain price. But unlike forward contracts, the futures
contractsare standardized and exchange traded. To facilitate
liquidity in the futures contracts, theexchange species certain
standard features of the contract. It is a standardized
contractwith standard underlying instrument, a standard quantity
and quality of the underlyinginstrument that can be delivered, (or
which can be used for reference purposes insettlement) and a
standard timing of such settlement. A futures contract may be
offsetprior to maturity by entering into an equal and opposite
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transaction. More than 99% offutures transactions are offset this
way.The standardized items in a futures contract are:
Quantity of the underlying
Quality of the underlying
The date and the month of delivery
The units of price quotation and minimum price change
Location of settlement
Spot price: The price at which an asset trades in the spot
market. F utures price: The price at which the futures contract trades in
the futures market.
OPTIONS
Options are fundamentally different from forward and futures
contracts. An option givesthe holder of the option the right to do
something. The holder does not have to exercisethis right. In
contrast, in a forward or futures contract, the two parties have
committedthemselves to doing something.Whereas it costs nothing (except margin requirements) to enterinto a futures contract,the purchase of an option requires an up-front payment.There are two basic types of options, call options and put options.
Call option: A call option gives the holder the right but not theobligation to buy an asset by a certain date for a certain price.
P ut option: A put option gives the holder the right but not theobligation to sell an asset by a certain date for a certain price.
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H OW T H E COMMODITY MARKET WORKS9.1 WORKING PROCEDURE
The futures market is a centralized market place for buyers and
sellers from around theworld who meet and enter into commodity
futures contracts. P ricing mostly is based onan open cry system,
or bids and offers that can be matched electronically.
Thecommodity contract will state the price that will be paid and
the date of delivery. Almostall futures contracts end without the
actual physical delivery of the commodity.There are two kinds of trades in commodities.The first is the spot trade , in which one pays cash and carriesaway the goods.
The second is futures trade . The underpinning for futures is the
warehouse receipt. Aperson deposits certain amount of say, good
X in a ware house and gets a warehousereceipt which allows him
to ask for physical delivery of the good from the warehouse
butsome one trading in commodity futures need not necessarily
posses such a receipt tostrike a deal. A person can buy or sale acommodity future on an exchange based on hisexpectation of
where the price will go.F utures have something called an expiry date, by when the buyer
or seller either closes(square off) his account or give/take
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delivery of the commodity. The broker maintainsan account of all
dealing parties in which the daily profit or loss due to changes in
thefutures price is recorded. Squiring off is done by taking an
opposite contract so that thenet outstanding is nil.F or commodity futures to work, the seller should be able to
deposit the commodity atwarehouse nearest to him and collect
the warehouse receipt. The buyer should be ableto take physical
delivery at a location of his choice on presenting the warehouse
receipt.But at present in India very few warehouses provide
delivery for specific commodities
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Demat Indicator Delivery process requires9.2.3DELIVERY PROCESS REQUIRES:
Delivery information submitted on Expiry date.
This is done through the delivery request window on the TradingTerminal.
Matching delivery information is obtained.9.2.4VALIDATION OF DELIVERY INFORMATION:
On Client s Net Open P osition
On Delivery lot for commodity
Excess quantity rejected and cash settled
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Matched delivery information9.2.5MATC H ING PARAMETERS:
Commodity
Quantity
Location
Branch
Matching limited to the total warehouse capacity
Settlement through Depository.
Settlement Schedule in Settlement Calendar
Today Commodity trading system is fully computerized. Traders
need not visit a
commodity market to speculate. With online commodity
trading they could sit in the
confines of their home or office and call the shots.